The Indecisive Arbitrator (And His Cognitive Biases)

The Indecisive ArbitratorMy father has a running joke about being indecisive.  “Do you have trouble making up your mind?” The answer:  “Well, yes and no.” Indecisiveness is actually a good quality in an arbitrator.  It is another way of saying, “keeping an open mind until the end.”

When I was a teenager, I spent a few days one summer hanging around a courthouse, sitting through a murder trial.  The DA questioned a witness, and I thought, “That makes sense.” The defense attorney then cross-examined the witness, and I thought, “Wow, that makes sense too.” After the prosecution rested, the same pattern occurred with the defense.  By the closing arguments I had reacted against both lawyers and witnesses with a sense of deep suspicion. I assumed they were all lying or at best stretching the truth.  Yet if I were the decision maker, how would I have made a decision?

It could not be based on sincerity.  When I was learning to be a mediator, one of my mentors told me, “The parties have repeated their story to themselves so often they really believe it. They may be lying even to themselves.  Sincerity doesn’t mean much.”

It could not even be based on the “truth” about what happened.  In college I took a difficult historiography class. We looked at one particular historical incident each week by reading five books describing it from five different perspectives. It was like Rashomon with footnotes. The historian’s perspective: there is no truth, only a series of facts that we piece together into a story based on our biases.

Judges and arbitrators talk a lot about cognitive biases.  Some of the major biases are fundamental attribution error, or the tendency to assume that someone else’s problem represents a failure of character tainting everything else a person does, but one’s own success is the result of personal effort; anchoring bias, or the tendency to “anchor” a decision on one piece of information; backfire effect, where one reacts to information that is inconsistent with a developing hypothesis by strengthening belief rather than questioning it; belief bias, where one accepts the conclusions of logic based on a non-rational belief as to the plausibility of the outcome (one objection to Bayesian statistics!); confirmation bias, or the tendency to accept only information that confirms one’s existing beliefs; hindsight bias, or “I knew it” (or from the arbitrator’s perspective, “You should have known it”); and my favorite, bias blind spot, or the dangerous belief that one is less biased than others.

One bias that all arbitrators must keep in mind for every case is called the framing effect, or the tendency to draw different conclusions from the same information depending on who presents it and how it is presented.  We must constantly evaluate the credibility of the source.  If a source we do not trust tells us information that sounds truthful, or if a source we do trust tells us information that sounds untruthful, we should be careful how we weigh it.

Have you ever seen a pachinko machine, the Japanese version of pinball?  That is what an arbitrator’s decision making process is like.  Facts and arguments come in, bounce off biases and piles of other balls and come out at the bottom, when we tally the score.  The skillful advocate will be able to play to the arbitrator’s biases or help him try to get the pachinko balls past them.  The skillful arbitrator will remain indecisive and let the balls fall where gravity leads them.

Conflict Resolution for Small and Family Business: Arbitrating Supplier-Customer Disputes

business arbitrationWhen companies have disagreements with suppliers, distributors or customers, it often disturbs a mutually beneficial arrangement.  Neither party wants a prolonged, expensive legal dispute.  Neither party wants the public, or other customers and suppliers, to know about the dispute or the terms of the underlying contract.  Small or family businesses are often so constrained in time, money or the need for continued production that there is a premium on efficient resolution.

There is an alternative.  If both parties are looking for a fast, cost-contained solution, they can call on an arbitrator to make an expedited decision for them.  An arbitrator is similar to a private judge.  By agreement with the parties, he can look at each side’s version of the facts of the case and any particular laws that apply, then reach a decision that the parties have been unable to reach.  The whole thing can be decided and done within a few months, which reduces the drag on internal resources, reduces the legal bills and reduces the ongoing buildup of conflict between parties that may want to continue to work together.  The whole process stays private, as do the terms of the arrangement from which the dispute arises and even the fact that the parties have done business together.

One way an expedited arbitration process can work is that the parties first try to work out the problem themselves, then call in their attorneys who continue to try to negotiate a solution while preparing for the possibility of litigation or other adversary process.  The attorneys advise the parties of the various ways in which they might resolve the dispute and, if the parties are amenable, contact a professional arbitrator, who is usually another attorney with no relationship to the parties or the case.  For these kinds of cases, parties often choose arbitrators who are experienced business attorneys or commercial litigators who have business experience, so that the context of the dispute makes sense to them.  The arbitrator discloses any conflicts of interest and the parties sign a simple arbitration agreement.

If the parties need information they cannot access except through discovery, the attorneys and arbitrator work together to come up with a plan for streamlined discovery that takes place within a limited time, at limited cost.  The parties, attorneys and arbitrator schedule a hearing at their convenience (the parties retain much more control over scheduling than with a court).  A hearing occurs, which may take as little as a few hours.  Typically the arbitrator will provide a written decision within ten days of the hearing.  The award can be enforced in court if necessary.

Some people object to arbitration since awards are difficult to appeal.  However, very few court judgments are appealed anyway.  Appeals are not always successful, the cost can be prohibitive and further delays can be disruptive.

Although arbitration is not the right solution for every dispute, it can be a useful tool in the right contexts.  Disagreements with suppliers, distributors and customers can be good applications for expedited arbitration proceedings.

Securities Arbitrations and State Law: Statutes of Limitations Supersede FINRA Rules in Florida

Most securities brokerage agreements require customers to resolve their disputes with brokers through arbitration by Financial Industry Regulatory Authority (FINRA) Dispute Resolution, which, as a result, has become one of the largest dispute resolution providers in the country.

Typically, under FINRA rules, in a securities arbitration customers may file a complaint within six years from the event giving rise to the case.  However, in a recent case, Raymond James Financial Services Inc. v. Phillips, Case No. SC 11-2513 (May 16, 2013), the Florida Supreme Court ruled that the state statute of limitations supersedes the FINRA rules.  In this case, the statute of limitations for a negligence action required filing within four years from the event giving rise to the claim.  A group of customers had argued that the statute of limitations applies only to cases filed in court but not to arbitration proceedings.

This case is limited to Florida, for now.  It is particularly meaningful there since the large retiree population who depend on their investments makes for an active community of users of the FINRA arbitration system.  However, the logic of the court’s decision has potential persuasive authority throughout the country.  Depending on the nature of the claim, state statutes of limitations generally run between two and six years, with general tort claims, like negligence, falling somewhere in the middle and most contracts claims falling toward the longer end.  We can anticipate that customers and brokers will respond in a few different ways:

  • Brokerage firms should look carefully at the timing of claims to decide whether to raise a statute of limitations challenge.
  • The Raymond James brokerage agreement specifically referred to statutes of limitations.  Not all these agreements do.  Brokerage firms may start to change their forms in order to take advantage of a shorter time for making claims than under standard FINRA rules.
  • Customers and their lawyers may begin writing arbitration claims to advantage of longer statutes of limitations – in other words, they may start to add in breach of contract claims explicitly.The problem for customers is thatcontract claims against brokers may be harder to prove than negligence claims.
  • We may see more state court action if the underlying language permits.  Under federal precedent – the First Options case from 1996 – a court will decide arbitrability absent the “clear and unmistakable” agreement of the parties, so many contracts and the rules of many arbitration forums provide that the arbitrator makes that decision.  The court in the Raymond James case decided that under the circumstances, it, rather than the arbitration panel, could make the substantive decision.  Parties may seek more of the same when the law regarding statutes of limitations in a particular state is not clear.

Despite the Florida case law, it will be surprising at this point to see more FINRA arbitrators dismissing cases on their own based on statutes of limitations, since under FINRA Rules, “Motions to dismiss a claim prior to the conclusion of a party’s case in chief are discouraged in arbitration.” Like many judges, arbitrators may reserve their decision on a dispositive motion until later in the proceeding.  It will be interesting to see whether and to what extent FINRA gives guidance to its pool of arbitrators about these new case law developments.  It will also be interesting to see if FINRA Dispute Resolution considers changing its own rules to reflect the holding of the Raymond James case.

Arbitration Fairness Act: The 2013 Version

Massachusetts ArbitrationAnthropologists tell us that laws and dispute resolution procedures work only if people believe in their underpinnings.  Otherwise, forcing people into them actually undermines the system.  They give the example of trial by ordeal, a system based on the belief that God would decide the outcome based on whose hand healed faster after grasping burning coals.  As the beliefs that supported self-injury faded, it evolved to trial by battles of champions in the name of the Almighty – protect the disputants and pray that your guy wins – which over time became verbal sparring between lawyers. Today, most people in the West would see divinely sanctioned mutual maiming as barbaric and disconnected from any sense of fairness.

Some people believe that forcing consumers into arbitration undermines belief in the fundamental fairness of the entire judicial system. These people perceive the system as favoring large users, like businesses, over individuals. In response, the Arbitration Fairness Act was recently re-introduced in both the House and Senate (H.R. 1844 and S. 878), where it had previously been introduced without success in 2007, 2009 and 2011. It is based on the following (Sec. 2):

  1. The Federal Arbitration Act (now enacted as chapter 1 of title 9 of the United States Code) was intended to apply to disputes between commercial entities of generally similar sophistication and bargaining power.
  2. A series of decisions by the Supreme Court of the United States have interpreted the Act so that it now extends to consumer disputes and employment disputes, contrary to the intent of Congress.
  3. Most consumers and employees have little or no meaningful choice whether to submit their claims to arbitration. Often, consumers and employees are not even aware that they have given up their rights.
  4. Mandatory arbitration undermines the development of public law because there is inadequate transparency and inadequate judicial review of arbitrators’ decisions.
  5. Arbitration can be an acceptable alternative when consent to the arbitration is truly voluntary, and occurs after the dispute arises.

The bill goes on to reject so-called “pre-dispute arbitration clauses” (which are included before a dispute arises) in contracts between businesses and consumers as well as between employers and employees.  While in many cases an arbitrator determines whether a case is arbitrable, in consumer or employee matters a court would have to make that determination.

One of the main arguments against the Act is that it would increase the number of cases filed and overburden the courts.  In other words, consumers should not have the benefit of the laws we have evolved because it is too expensive.  However, businesses should be able to use contract law to compel this result.  It is, indeed, an uncomfortable juxtaposition.

On the other hand, many quote a belief expressed eloquently in a Better Business Bureau white paper (Protecting Consumers in Cross-Border Transactions, 2000):

“Our experience in North America is that consumers do not utilize their rights to judicial redress for most problems they encounter in the marketplace.  There are many reasons for this: the high cost of litigation; the inaccessibility of attorneys; the frequent small dollar value to high emotional and convenience value disputes; varying education levels; fear; and the weakness of their strictly ‘legal’ positions and remedies compared to the perceived harms or inconveniences suffered.”

Arbitration can come out with results that seem unfair, but then again so can the court system. Despite the potential for unfairness, consumer arbitration often works well, particularly if the arbitrator is required to explain to the losing party why his decision is not arbitrary.  Rather than precluding systems that actually work in the name of making them fairer, perhaps the conversation about the Arbitration Fairness Act should start with a dialog about the best means to accomplish fairness in resolution.

Cognitive Bias in Arbitration: The Backfire Effect

arbitration backfirePeople tend to process information through some of the same filters over and over again. We call these filters “cognitive biases.” They are hardwired into our brains.

One of these biases is called the “Backfire Effect.” People look for patterns in evidence so the world does not become a string of disconnected observations. As we are starting to piece together a pattern, or develop a hypothesis, one might think that a rational person would reconsider the hypothesis when faced with an inconsistent fact. It actually takes an extra cognitive step to approach the world that way, since our tendency is to strengthen the developing hypothesis in the face of the inconvenient evidence. Our minds value seeing some pattern over the chaos of having no pattern.

In an arbitration, the arbitrator may experience the backfire effect without even realizing it. Every decision has two elements, determining (i) what actually happened and (ii) whether the fact pattern fits into an intellectual construct of whether to make an award for the plaintiff (whether that construct is legal, course of dealing or fairness depends on the type of tribunal).  As the complainant begins her case, she draws an image of the events that led to the conflict. Her counsel then fits the developing image into the developing pattern of the argument for an award.If it is well-drawn, the arbitrator who is not careful will begin to buy into it subconsciously in order to make sense of all the data. When the defense begins to present its case, it may be fighting an uphill battle not only to dislodge the plaintiff’s version of the story and legal claim, but maybe even to battle against a subconscious tendency to reject inconsistent evidence, laced with the secret emotionality that goes along with the backfire effect. Arbitrators, who like judges tend to be a rational bunch, are not always sensitive to non-rational tags that become attached to developing patterns.

As an arbitrator, be aware of the backfire effect. As a party or advocate, use it. The early part of the complainant’s case is critical. The pattern is drawn in the opening statement, then those first bits of evidence must layer over each other as cleanly as possible to set the stage. Think of the presentation as a house of cards, with the evidence as credibly as possible built on itself to tie together a story that the arbitrator has to work to step away from when the other party has its turn. For the other party, the best way to undermine the backfire effect is to damage the credibility of the complainant’s very first bits of evidence presented and the way complainant’s story fits together, so the arbitrator has conscious doubts over the intellectual construct he is developing.  If the complainant’s story has not fully taken hold, it leaves space for the respondent to develop its story.

The backfire effect: be aware of it.  Use it.

Cognitive Bias in Arbitration: The Curse of Knowledge

Massachusetts arbitrationPeople tend to process information through some of the same filters over and over again. We call these filters “cognitive biases.” They are hardwired into our brains.

One of these biases is called the “Curse of Knowledge”: the tendency to overvalue information that we already know when making a decision that is also based on new information. On the one hand, it is clearly a survival skill to be able to learn from and utilize a knowledge base. Sometimes people even pick arbitrators based on their knowledge and experience in a particular area, so that the arbitrator has at least a basic understanding of how the matter in controversy works on which to base a decision on the “right” outcome under the circumstances. On the other hand, sometimes people rely on that knowledge base so much that it is hard for them to weigh new evidence properly.

For instance, consider an arbitrator looking at a corporate acquisition gone bad. The arbitrator is a lawyer with extensive transactional experience. As the parties explain the situation, he fits their evidence into a developing fact pattern that is based on the framework of his own deal experience and knowledge of the law. On the one hand, the customs and practices of the M&A industry are familiar, so advocates do not need to explain everything from the beginning. On the other hand, the arbitrator may have been involved in a transaction or a prior arbitration that echoes the experience of one of the parties – not a true conflict of interest, but a pre-formed lattice on which to hang evidence as it is presented. He needs to step back and find a way to be able to listen to everything while still using his knowledge base.

As an arbitrator, be aware. As a party, use this cognitive bias. Research your arbitrator to the extent you can to see if you can glean something from her experience. Consider whether in your case experience is good or bad – as in the choice the Financial Industry Regulatory Authority gives between “public” arbitrators from outside the securities industry and “non-public” arbitrators with industry experience. Build upon familiarity if it helps you and re-build the cognitive lattice with more basic explanations if it does not. If you are in a forum in which the arbitrator can ask questions, do more than just respond to the question: listen for gaps or inaccuracies in the arbitrator’s knowledge base as well as reading the tea leaves about what she is thinking.

Knowledge is a two-edged sword. Try not to cut yourself!

Cognitive Bias in Arbitration: Fundamental Attribution Error

People tend to process information through some of the same filters over and over again. We call these filters “cognitive biases.” They are hardwired into our brains.

One of these biases is called “fundamental attribution error.” When something good happens, we tend to overestimate the role of our own effort and intention. For instance, a store manager might say, “The changes I made helped us make more money last year,” even though it happened at the time the whole industry was expanding. On the other hand, when something bad happens, we are tempted to assign blame.  For instance, “I know his job was cut when the company was downsizing, but if he had put more effort in, they would have kept him and let someone else go.” In other words, even though people may think they root for the underdog, they actually have a tendency to congratulate themselves and blame the alleged victim.

Judges gavel on a pile of law booksIn a contested matter, the complainant has been unhappy enough with the outcome of a situation to makea claim.  At some level, the arbitrator must be careful not to have a bias toward blaming the alleged victim or respond to his bias by overcompensating in favor of the alleged victim.  Similarly, he must be careful not to have a bias toward crediting success solely to the effort and general superiority of the party claiming success (although he may need to acknowledge that success in weighing the evidence). He must be conscious of how he is responding at a subconscious level.

The advocate in arbitration can use cognitive biases in her favor by how she spins the story she tells.  For instance, defendant’s counsel can present evidence of the many ways the plaintiff failed to take action to prevent or ameliorate the harm. While the advocate runs the risk of alienating an arbitrator by reiterating evidence too much, she should certainly try to reinforce the arbitrator’s subtle predilection toward assuming fault (and even character flaw).  Likewise, plaintiff’s advocate should consider ways to weaken the other side’s subtle claims of moral superiority. Counsel should plant the seeds of the dark side of a successful defendant’s story, as if defendant were a baseball player who was viewed as a hero because of his prowess on the field until the public learned about his secret steroid use.

While fundamental attribution error comes up more often as an obstacle to mediated resolution, the attentive advocate can also use it to help be persuasive in arbitration.